Better a Seller than a Buyer Be? – The Buffett Valuation Metric & the Notion of “Cheap at the Peak”

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 here to download the Premium PDF Introduction: Market Cap to GDP Appears Pricey as Fast Growing Stocks are All the Rage The Numbers Required to Resolve Market Cap to GDP are Anything but Pretty How the Recent Rout Stacks Up vs. History Is the Price of Perfection an IPO Storm on the Horizon? Conclusion: When Markets Fall, Loss Makers Can be Lethal Introduction: Market Cap to GDP Appears Pricey In Kailash Capital’s last piece, Private vs. Public Markets we led out with a chart showing that despite a booming stock market over the last decade the funding gap for many pensions had not improved since the trough of the Great Financial Crisis. We cited McKinsey’s research which noted that a cause of this was that many pensions “…recognized significant losses at the time of the downturn and did not reallocate with sufficient alacrity to take full advantage of the past decade’s bull-run.” Warren Buffet discussed this phenomenon in a 2001 interview with Fortune Magazine in which he explained his very public view that markets were expensive in 1999. He noted “When hamburgers go down in price, we sing the ‘Hallelujah Chorus’ in the Buffett household. When hamburgers go up, we weep. For most people, it’s the same way with everything in life they will be buying – except stocks. When stocks go down and you can get more for your money, people don’t like them anymore.”1 Buffett went on to state that he never has “…the faintest idea what the stock market is going to do in the next six months, or the next year or the next two. But I think it is very easy to see what is likely to happen over the long term.”2 How did Buffett come to feel it was “very easy to see” what is likely to happen over the long run? Fortunately, he explained that he uses a simple method he felt very “fundamental” in nature of calculating “…the market value of all publicly traded securities as a percentage of the country’s business....” which he felt was “…probably the best single measure of where valuations stand at any given moment.” In this 2001 interview he followed that comment up with “…nearly two years ago the ratio rose to an unprecedented level. That should have been a very strong warning signal.” We have replicated the Buffett metric in Fig. 1. We would note that current valuations today are virtually identical to the period Buffett was commenting on during his 2001 interview with market Cap to GDP trading at 152%. One place the emerging mania is leaving behind is a collection of wonderful GARP stocks. https://kailashconcepts.com/wp-content/uploads/2021/11/icons8-vertical-line-50.pnghttps://kailashconcepts.com/wp-content/uploads/2021/11/icons8-lock-50.png Subscribe now to unlock the full content 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 YOU ARE NOW READING PREMIUM MEMBER LEVEL CONTENT Introduction: Market Cap to GDP Appears Pricey Figure 2 below shows the stunning historical potency of Buffett’s valuation guide. The horizontal axis represents the total market cap of listed securities divided by GDP. The vertical axis shows the subsequent 10-year average annual returns of the Russell 1000. You can see that this simple metric has an extraordinary record of predicting the next decade’s future annual returns. The solid vertical line near the right-most observation on the chart is where market valuations were at the end of September 2018, just shy of the Dot Com Bubble peak. If we believe history is any guide, we should expect future annual returns over the next decade to approximate 0%. https://kailashconcepts.com/wp-content/uploads/2021/11/icons8-vertical-line-50.pnghttps://kailashconcepts.com/wp-content/uploads/2021/11/icons8-lock-50.pngUpgrade your subscription now to unlock the full content Introduction: Market Cap to GDP Appears Pricey Figure 2 below shows the stunning historical potency of Buffett’s valuation guide. The horizontal axis represents the total market cap of listed securities divided by GDP. The vertical axis shows the subsequent 10-year average annual returns of the Russell 1000. You can see that this simple metric has an extraordinary record of predicting the next decade’s future annual returns. The solid vertical line near the right-most observation on the chart is where market valuations were at the end of September 2018, just shy of the Dot Com Bubble peak. If we believe history is any guide, we should expect future annual returns over the next decade to approximate 0%. The Numbers Required to Resolve Market Cap to GDP are Anything but Pretty Something Kailash Capital finds interesting in thinking about this data is the “hidden” value of presupposed market caps held in the hands of Private Equity. Like Kailash Capital, our partners have become accustomed to reading an ever increasing drum-beat of soon-to-be IPOs for companies sporting absolutely spectacular valuations. In a recent Bloomberg article, Airbnb’s CEO promised an IPO before 2020 when employee stock options expire and while the details were scarce, at its current $31 billion valuation, the firm trades at over 300x.3 We cannot help but stare at an ancient brand like Ford with $160bn in revenues that, due to market anxieties over it being a “cyclical” stock, have it trading at a meagre 6x earnings or a $35 billion dollar market cap. While we can be led to believe that the cyclicality and capital intensity of the travel and lodging business where Airbnb operates may be significantly lower than Ford, we simply cannot believe that the purported dispersion in these firm’s valuations can be explained in any empirically rational manner. Excluding the issue of what market cap is “hidden” in the hands of private equity, Fig. 3 below highlights the painful valuation headwinds equity investors face today. The bars use the regression line above to calculate how far public market capitalization would have to fall, holding GDP constant, for valuations to be in-line with their long run averages, the 2003 Trough and the 2009 Trough. These figures present today’s equity buyers with some daunting headwinds. The Numbers Required to Resolve Market Cap to GDP are Anything but Pretty We recognize that many of Kailash Concept’s readers are prone to more optimistic views than its admittedly dystopian author. One could reasonably suggest that equity prices are going to be buttressed by booming economic growth. As a matter of principle we avoid arguing with algebra but find the figures, presented in Fig. 4 below, to be comical in nature. The bars below show how much US GDP would have to grow, if equity market cap was to remain constant and generate no return, for Buffett’s ratio to reach its average, the level seen at the 2003 Trough and the level seen at the 2009 Trough. Kailash is skeptical that the US economy will quickly grow 57% to normalize valuations. How the Recent Rout Stacks Up vs. History Kailash Capital believes these facts are particularly interesting in light of recent negative market action. Figures 5 and 6 below show every cumulative decline in the Russell 1000 and Russell 2500 respectively of 10% or more since 1979. You can see that while these slips are often brief in duration, they can become remarkably dramatic in consequence.4 We believe it is worth highlighting that the most recent decline, the “downward dagger” farthest to the right, started from a level that was higher than the 2007 peak and equivalent to the peak in 2000. How the Recent Rout Stacks Up vs. History The reason this strikes us as so important is that there is often a temptation to “buy the dips” after the market swoons. Like Buffett, Kailash Capital has absolutely no idea what the market will do in the next six months or even two years and makes no claims to market timing. At the same time however, Fig. 7 below highlights just how little air the recent pullback has taken out of equity valuations. As of the last data available market cap to GDP ratios stand just below their all-time 2000 highs and above the levels seen at the peak in 2007. Is the Price of Perfection an IPO Storm on the Horizon? In our last paper, Private vs. Public Markets, Kailash Capital documented possible signs of herding and performance chasing in the private equity space. The paper also noted that munificent financial conditions had created a ripe environment for private equity firms looking to IPO or liquidate portfolio companies. In that paper we presented data, reproduced in Fig. 8 below, showing that the percentage of IPOs with negative earnings had recently hit an all-time high. We believe this to be another compelling piece of evidence that markets are at increasingly tenuous levels. Conclusion: When Markets Fall, Loss Makers Can be Lethal One of the most disconcerting facts about the potential wave of loss-making IPOs coming at peak valuations is that loss-making firms tend to dramatically underperform in market corrections. In Figs. 9 and 10 below we show how all firms that lose money have fared compared to all firms that have positive earnings during periods when the R1000 and R2500 declined 10% or more. We were specific in making the split as forgiving as possible because it shows that one of the easiest methods of creating “crash protection” in your portfolio is to simply not buy firms that lose money. Conclusion: When Markets Fall, Loss Makers Can be Lethal Kailash Capital recognizes that our product’s partners will find the above conclusion as intuitive as it is effective in thinking through portfolio decisions today. Our organization believes that Mr. Buffett is worth paying attention to and that his record stockpile of cash is due to patience rather than lethargy.5,6 We believe Buffett’s simple valuation method has proven as effective at estimating long-run returns as it is ineffective at timing markets. With market valuations based on Mr. Buffett’s metric hovering just below the 2000 peak but above the 2007 peak and a surfeit of potential loss-making IPOs7,8,9,10,11,12,13 on the horizon we cannot help but make the following conclusions: 1. The stunning valuations ascribed to money losing firms in the private space dwarfs anything we can recall from the period during 2000 and therefore could increase the long-term risks to investor portfolios that own or purchase loss-making firms14 2. Many private firms are already held in actively managed 40Act Mutual Funds that have traditionally been the buyers of IPOs leaving us uncertain if they will be looking to sell during an IPO rather than buy 3. While we cannot time markets, this would seem like a potentially important moment for every portfolio manager to examine any firms they own with negative earnings to assess their upside and downside We believe this paper, documenting Buffett’s valuation methodology, in concert with our prior work on private equity simply reinforces the concept that one might rather a seller than a buyer be today. Normally in a paper like this we would provide you with a list of the firms we are most concerned about in the Russell 1000 and 2500. Unfortunately, due to the sheer number of firms with negative earnings today, adding them to this publication would make the document unwieldly. As a result we have created the two links to PDFs below listing firms with negative earnings ranked from Worst to Best. Kailash believes it may be a healthy, if brief, exercise to open these links and check if you have any of these names in your portfolio. Large Cap (R1000) Negative Earning Firms – January 2018 Small & Mid Cap Negative Earning Firms – January 2018 In our next paper we will revisit some earlier work done by the Kailash team that worked to find an intelligent balance between firms with strong defensive traits that also could “hang on” if markets continued to rise. We hope that in doing so we will be able to add more depth and precision to what we believe is a potent if simple tool laid out in this work. As a reminder for our Financial Advisors: our models are available on a continuous basis, and most have been in production for over a decade. If you are looking for simple, concentrated, low turnover, and tax efficient model portfolios we would like to talk with you. KCR also offers a wide range of easy-to-use but sophisticated tools. Our toolkits can help identify mispriced stocks with the best and worst risk/reward characteristics, estimate a stock’s duration and warn you when a company is engaging in low-quality accounting. Over the last 12 years, KCR has built and offers time-tested and class-leading products built by experienced and proven money managers for fixed to low prices. Kailash Capital’s sister company, L2 Asset Management, runs market neutral, long/short, large-cap, and mid-cap long-only portfolios with a value and quality bias. L2 employs a highly disciplined investment process characterized by moderate concentration, low turnover, high tax efficiency, and low fees. While nobody can predict the future, we believe the recent resurgence in risk-adjusted returns seen across all products is the beginning of what may be a long period where speculation is punished, and prudence and patience rewarded. The topics discussed in this article are aimed at seasoned professionals, as such, we have included some extra reading for anyone seeking out more information related to the topics above. Fast Growing Stocks Large Cap Core Fund Bear Chart What Does Large Cap Mean What Is Small Cap Vs Large Cap Low Price Stocks With Good Dividends Tight Labor Market Returns Tesla Gas Mileage NFLX Short “Warren Buffett on the Stock Market,” Carol Loomis, December 10, 2001; http://archive.fortune.com/magazines/fortune/fortune_archive/2001/12/10/314691/index.htm “Warren Buffett on the Stock Market,” Carol Loomis, December 10, 2001; http://archive.fortune.com/magazines/fortune/fortune_archive/2001/12/10/314691/index.htm EBITDA, Pro Forma Net Income or GAAP Net Income, Kailash Capital does not know Data uses monthly returns https://www.marketwatch.com/story/warren-buffetts-growing-cash-pile-and-the-big-read-in-for-investors-2018-08-06 See Figure 11 on the next page. https://www.barrons.com/articles/get-ready-for-a-blockbuster-year-for-tech-ipos-in-2019-1539720828 https://www.sfchronicle.com/business/article/In-2019-tech-unicorns-to-prance-alongside-Wall-13285960.php https://www.ey.com/en_gl/news/2018/12/megadeals-and-unicorn-ipos-characterize-2018-deal-landscape-trend-to-continue-in-2019 https://news.crunchbase.com/news/2019-could-be-the-year-of-the-decacorn-ipo/ https://seekingalpha.com/article/4213817-watch-unicorn-stampede-2019 https://www.kiplinger.com/article/investing/T038-C000-S001-is-the-stock-market-open-on-christmas-eve.html https://www.cnbc.com/2018/05/22/tech-bubble-is-larger-than-in-2000-and-the-end-is-coming.html We readily admit we do not have hard data on the private space – but when we hear that companies that lose billions are potentially worth over $100 billion we cannot help but believe this is a new level of euphoria. Disclaimer The information, data, analyses, and opinions presented herein (a) do not constitute investment advice, (b) are provided solely for informational purposes and therefore are not, individually or collectively, an offer to buy or sell a security, (c) are not warranted to be correct, complete or accurate, and (d) are subject to change without notice. Kailash Capital, LLC and its affiliates (collectively, “Kailash Capital”) shall not be responsible for any trading decisions, damages or other losses resulting from, or related to, the information, data, analyses or opinions or their use. The information herein may not be reproduced or retransmitted in any manner without the prior written consent of Kailash Capital. In preparing the information, data, analyses, and opinions presented herein, Kailash Capital has obtained data, statistics, and information from sources it believes to be reliable. Kailash Capital, however, does not perform an audit or seeks independent verification of any of the data, statistics, and information it receives. Kailash Capital and its affiliates do not provide tax, legal, or accounting advice. This material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for tax, legal, or accounting advice. You should consult your tax, legal, and accounting advisors before engaging in any transaction. © 2021 Kailash Capital, LLC – All rights reserved. Nothing herein shall limit or restrict the right of affiliates of Kailash Capital, LLC to perform investment management or advisory services for any other persons or entities. Furthermore, nothing herein shall limit or restrict affiliates of Kailash Capital, LLC from buying, selling or trading securities or other investments for their own accounts or for the accounts of their clients. Affiliates of Kailash Capital, LLC may at any time have, acquire, increase, decrease or dispose of the securities or other investments referenced in this publication. Kailash Capital, LLC shall have no obligation to recommend securities or investments in this publication as result of its affiliates’ investment activities for their own accounts or for the accounts of their clients.